Tell me about the background/history of Iconomi

ICONOMI’s story began in 2016 when crypto was still largely unexplored territory—a fascinating new world but intimidating at the same time. Tim and Jani, the founders, saw an opportunity to bridge a gap, creating a platform that made it easy for people to start investing in crypto without navigating the complexities that often come with it.

That’s how ICONOMI was born. We were one of the first platforms to let people invest and manage their crypto investments without needing to be experts. Our mission remains to make digital asset investments and management simple, secure, and transparent for retail and institutional users.

What is the firm’s offering :

–              for retail clients?

For retail clients, our goal is clear: to make crypto investing accessible to everyone, regardless of their expertise. Users can easily invest in crypto portfolios that automatically index the market or a sub-segment of the crypto market. We’ve worked hard to make the process as straightforward as possible so anyone can manage their crypto portfolio without feeling overwhelmed.

Plus, we offer tools like automated profit-taking and stop-loss features to make the entire experience smoother and more user-friendly. More advanced retail users can also create and manage their own crypto strategy.

–              For institutional clients, including wealth managers and advisers?

We provide robust tools for wealth managers, advisers, and institutional investors to meet the growing demand for digital asset exposure. These include digital assets portfolio management, a white-label platform, custody, trading and reporting tools that make it easy for them to integrate crypto into their existing offerings.

Essentially, we help them unlock a whole new asset class for their clients.

How does the platform work for all types of investors?

The core of the platform works similarly for all investors. We take great care to pre-screen and only list compliant tokens as well as real time monitoring of each token liquidity. That is done in the background, without the users noticing it. Same is valid for arranging a secure custody of all crypto-assets on the platform.

Users focus on creating their own crypto investment strategies, set rules and automation to suit their goals or copy a strategy that aligns with their personal or business objectives. We handle the heavy lifting—like portfolio rebalancing and trade execution—while ensuring full transparency and control. We’re connected to most of the major exchanges, which means that our users get access to the best possible liquidity and prices when it comes to executing their trade orders. We at all times remain independent from trading platforms, as we side with the users.

What do cryptocurrencies offer to retail clients/institutional clients?

The role of cryptocurrencies has evolved significantly in recent years. While they were once seen mainly as a speculative asset class, the industry has matured, and crypto now represents an efficient way to diversify financially.

In essence it offers both segments the same – an opportunity for diversification and a way to mitigate economic uncertainties while appealing to forward-thinking clients looking for modern investment options. Bitcoin stands out of the pack, as it has reached a different status with institutional investors as well. 

Do you actually invest in cryptocurrencies directly?

Me personally? Of course. Up to a certain per cent risk-reward is acceptable, so I invest roughly 10 per cent of my overall portfolio. I am actually quite a conservative investor, maybe a bit biased on crypto.

We also invest in crypto as a company and hold roughly 20 per cent of our treasury in crypto. This simple strategy has paid off very well over the last eight years, and I would recommend that business owners take this opportunity if they have not yet explored it.

What is your offering using ETPs?

–              we don’t offer ETPs

Our offering is even simpler than an ETP. Our platform empowers users to create and manage any kind of crypto portfolio that fulfils the same goals as a crypto ETPs. Automated rebalancing, real time price information, custody, ease of use, transparency and diversification benefits … Everything is inbuild into our platform. On top of all this Iconomi allows a user to create and manage his own investment strategy – in a sense create his own “etp equivalent”. 

We offer tools for asset managers and institutional investors to build and oversee personalised crypto portfolios for their clients. At the same time, individuals can use our curated portfolios to begin their crypto investment journey. This solution makes it easier to include digital assets in modern investment strategies without depending on traditional ETP structures or IT providers.

How safe is an investment in cryptocurrencies for a retail client/institutional client?

Investing via a regulated/registered crypto provider should be safe nowadays. It is crucial to select providers that are registered with the local regulator. If an investor would take the de-fi route, it might get a bit more tricky.

Safety is a top priority at ICONOMI. We know it’s the first thing people worry about when considering crypto investments, exactly because of the nature of the assets. That’s why we’ve built our platform with security at its core. We work with trusted custodians and use cold storage for assets, among other measures, to keep funds safe from potential threats. Our security protocols are constantly updated and audited.

We’ve also ensured our tools are designed to help retail and institutional clients navigate the volatility of crypto markets. Diversification through automated portfolios, trailing stop loss or automated taking profit rules and others make it easier to spread risk and invest with confidence. We offer even more robust solutions for institutions, including compliance-friendly options and detailed reporting to meet regulatory needs.

How is custody managed through your platform?

Users on Iconomi have 24/7 access to all their crypto-assets, while banks still only work until 4 p.m. The majority of the assets are kept in cold storage to increase security. We also employ a multi-custody strategy and work with multiple custody providers. This allows the user to manage all his crypto-assets in one place while at the same time diversifying their custody and lowering the risk by not keeping “all eggs in one basket.”

How do you manage investments in multiple cryptocurrencies?

Our platform is designed for diversification and flexibility. Users can invest in multiple cryptocurrencies by either copying a strategy that matches their goals or managing their own custom portfolio. We offer access to 150 assets, including widely known ones like Bitcoin, Ethereum, and Solana. To limit exposure and enhance security, we make some of the more volatile assets available only through managed strategies.

Have you seen much appetite for financial advisers and wealth managers to offer cryptocurrency-based investments to their clients?

We’ve seen significant interest growth in crypto over the past few years. Also, on our platform, business accounts have grown exponentially since 2022.  There was a lot of hesitation in the early days, but now, financial advisers, wealth managers, and businesses embrace crypto as a legitimate addition to their clients’ portfolios. ICONOMI has played a role in this shift, providing the tools and education they need to navigate these waters. It’s been rewarding to see this adoption grow and to be part of the journey as the financial world embraces crypto.

This figure exceeds the market capitalisation of listed real estate (USD1.9 trillion) and broad commodities (USD1.0 trillion), and rivals other well-established categories such as emerging markets small cap equities (USD2.8 trillion), high yield bonds (USD2.8 trillion), and inflation linked bonds (USD2.6 trillion), Silenskyte writes.

Cryptocurrencies now boast a 15+ year track record, evolving from bitcoin’s debut in 2009 to a thriving ecosystem of thousands of digital assets and blockchain-based applications. This longevity and growth underscore their resilience and staying power, WisdomTree says.

Investor sentiment

Despite these achievements, scepticism persists. WisdomTree writes that according to its 2024 Professional Investor Survey, approximately 15 per cent of respondents see lack of demand for cryptocurrencies, and just over 13 per cent of them still view cryptocurrencies as a passing fad.

“This scepticism overlooks several significant milestones in cryptocurrencies’ journey towards mainstream finance and institutionalisation that we have observed in 2024. By way of example:

“Spot bitcoin ETPs launched in the United States and received over USD24 billion in net inflows during the first 10 months of 2024.

“Major institutions, including the State of Wisconsin Investment Board and Emory University Endowment, allocated to bitcoin ETPs, citing inflation-hedging properties and potential for portfolio diversification.”

WisdomTree notes that while the majority of 2024 flows have gone into US-domiciled spot bitcoin ETPs, Europe remains a leader in the diversity and maturity of its offerings.

“Here investors can invest in a broad range of single-coin and crypto basket ETPs, many of which boast relatively long track records.

“Europe’s foresight has fostered a sophisticated market that spans diverse strategies and caters to varying investor preferences. In contrast, the US market, although gaining momentum with recent launches, continues to play catch-up.”

Looking ahead

The evolution of the crypto ETP market is expected to accelerate as both the US and European markets continue to mature, the firm writes.

“In the US, the recent launch of spot bitcoin and Ethereum ETPs could pave the way for regulatory approval of additional cryptocurrency products, broadening the scope of investment opportunities available to institutional and retail investors. This growing accessibility is likely to attract even greater inflows, further embedding cryptocurrencies within the traditional financial ecosystem.

“Meanwhile, Europe’s established leadership and diverse product offerings position it to remain a hub of innovation in the crypto ETP space.”

Bitcoin ETPs are now listed in most developed markets, providing institutional investors across the globe with streamlined access to cryptocurrencies, the firm says. “This widespread availability not only enhances portfolio diversification opportunities but also fosters greater adoption by institutional players who were previously deterred by the complexities of direct cryptocurrency investment.”

Conclusion

Silenskyte writes that the data highlights a disconnect between the market reality of cryptocurrencies and the perceptions of some investors. “With a market capitalisation rivalling traditional asset classes and a proven history, cryptocurrencies are no longer a niche investment but a formidable player in the global financial ecosystem.

“For investors dismissing the sector as a passing trend, it may be worth reevaluating their stance in light of the evidence.”

The London-based manager founded by alumni of Bankers Trust, Goldman Sachs and JPMorgan, writes that it has seen a huge uptick in inquiries from existing investors and first-time institutional investors since the US Election results and Bitcoin hitting a new high of USD107,000 as of 16 December 2024.

Nickel writes that its flagship fund, Diversified Alpha, a quant multi-PM fund, fuelled by a record YTD performance of over 30 per cent, has seen a 115 per cent increase in AUM since the beginning of the year with a particularly huge uptick in inquiries from prospective investors following the November 5th US presidential election.

The surge in inquiries comes predominantly from institutional investors with no previous allocations to the digital assets, reacting to prices in bitcoin exceeding USD100,000 milestone, the firm says, adding that it reached USD107,000 on 16 December and has gained over 150 per cent year to date.

Nickel Digital research in June this year found that while almost all (97 per cent) institutional investors and wealth managers surveyed expected bitcoin to surpass the USD100,000 landmark at some stage, however just one in five (20 per cent) expected that to be achieved within two years. Around two out of five (39 per cent) said it would take three years or more to hit USD100,000.  This year’s development, however, has exceeded even the most optimistic expectations, the firm writes. 

Anatoly Crachilov, CEO and Founding Partner at Nickel Digital, says: “The bitcoin bull market is here and BTC price point exceeding USD100,000 is seen by many as validation of bitcoin long-term value proposition.

“It is not just the USD100k landmark that sparks the renewed interest – there is a dramatic change in attitude among institutional investors driven by the anticipated changes in regulatory environment in the US but also gradual recognition of the role of digital assets in institutional portfolios.

“Statistical evidence shows that incorporating a small proportion of digital assets results in a significant positive effect on a multi-asset portfolio, without materially impacting the portfolio’s risk profile. The fluctuating relationship between equities and digital assets means that an allocation to the asset class enhances portfolio diversification.”

Institutional Asset Manager’s sister title, ETF Express, has recently launched a monthly cryptocurrency column, in partnership with Trackinsight and CoinDesk. Follow this link to read more.

Its study with organisations already invested in the sector found 77 per cent expect the flow of funds into bitcoin ETFs to increase over the next 12 months with 13 per cent predicting dramatic increases.

The institutional investors and wealth managers questioned in the US, UK, Germany, Switzerland, Singapore, Brazil and the United Arab Emirates who collectively manage around USD1.7 trillion in assets agree the mainstream adoption of crypto ETFs will have wider and more profound impacts on the sector.

The firm writes that bitcoin ETFs are seen as delivering a range of benefits including lower costs, increased liquidity within established regulatory frameworks and reporting as well as enabling institutional investors to avoid the complexities and risks associated with self-custody.

Institutional investors and wealth managers questioned all agreed that the widespread adoption of bitcoin ETFs is putting pressure on regulators to put comprehensive regulatory frameworks and standardised definitions and classifications in place with 29 per cent strongly agreeing.

However, the research shows arbitrage-focused hedge funds are regarded as the most attractive way for investors to gain exposure to digital assets ahead of ETFs or ETPs.

The latter, in turn, are seen as more attractive than a passively held diversified portfolio of digital assets or an actively managed diversified long-only portfolio of digital assets. The approach rated fifth in the research was an actively managed diversified long/short portfolio of digital assets.

Anatoly Crachilov, CEO and Founding Partner at Nickel Digital, says: “The wider implications of the launch of crypto ETFs are that they helped legitimise the asset class, driving interest to both directional products such as ETFs, as well as the more sophisticated market-neutral strategies via specialised active managers.”

ETH and BTC are the tokens used to pay transaction fees and to reward those running blockchain software.  BTC is referred to as an inflation hedge or digital gold. ETH could be digital oil, fuel that enables Digital Apps (dApps).  Ethereum dApps enable tokenisation, financial infrastructure, games and even social media networks.  Applications also enable Ethereum’s use as a backbone for blockchains known as Layer 2s.  These are designed around specific requirements such as speed, then use Ethereum as a secure, settlement layer between chains and institutions.

The market capitalisation of cryptocurrencies has grown over the last five years, however they are still volatile.  Bitcoin can be considered digital gold… for the brave.  Physical gold still has substantially lower volatility.  Despite the differences in the blockchains, they are still highly correlated in terms of price. Changes in BTC price currently drive the crypto market as a whole. 

Issuance of new tokens is one area of difference and is defined in the software of each blockchain rather than by committees.  Bitcoin issues a fixed number of BTC “rewards” every block paid to “miners” operating the network.  Initially 50 BTC per block, the software enforces a 50 per cent reduction every 210,000 blocks (~4 years).   From July 2024, the reward was 3.125 BTC and will halve again in 2028.

Ethereum requires “Validators” to provide an ETH “Stake”. Rewards are issued in proportion to the stake.  Ethereum also removes a portion of transaction fees from circulation.  Block rewards increase new ETH, transactions remove ETH from circulation.  Since 2022 the supply of ETH has reduced by 335k ETH. 

Validators running the Ethereum software earn rewards (~3.071 per cent) however this is complex and has created a new industry where technical service providers run the software on behalf of holders in return for a small percentage of the rewards.  This provides an opportunity for all ETH holders to earn yield.

Longer term, staking maybe a differentiator between ETH ETFs.  The US issuers initially had this as part of their products but for now, it has been removed.

There are big differences in energy usage across blockchains.  Ethereum relies on the Validators ETH Stake as a security guarantee, but bitcoin Miners can only process transactions if they commit computation to the network.  Computation makes it expensive for a malicious actor to disrupt the network.  For both blockchains, a substantial economic investment is needed by the Software Operators. With Ethereum, the investment is ETH, with bitcoin it is in computation which requires energy.

Gold does not need new functionality in order for it to be considered valuable.  Many bitcoin developers believe the same – bitcoin does one thing well and no more, but that is the point.   In contrast, Ethereum has a roadmap with releases introducing new functionality every six months.

The success and adoption of blockchains is driven by the software ecosystem.  An annual report published by Electric Capital found over 16,000 Ethereum developers, more than any other Blockchain by a very large margin.  Bitcoin was found to have only 1,853 developers.

Accounts holding more than USD100 have grown across both blockchains with a sharp uptick in recent months.  Ethereum transactions are steadily growing and account for around four times that of bitcoin.  If Ethereum “Layer 2” blockchains are included, the transaction count is far higher and growing.

As the growth and adoption of cryptocurrencies continues, we are seeing governments around the world take a wide spectrum of regulatory actions.  El Salvador became the first country to adopt bitcoin as a legal tender; they have since been followed by other countries.  In contrast, cryptocurrencies are subject to different types of bans.  As the assets become more widely adopted and understood, hopefully regulation will follow.

A more mundane risk is the displacement of ETH and BTC as the dominant cryptocurrencies. Given how embedded bitcoin is in the public consciousness, this maybe more of an issue for Ethereum.  However, Ethereum is well established as a platform for dApps and has by far the largest ecosystem.  This combined with the nature of software enables Ethereum to include the best innovations found in competing platforms.

Cryptocurrencies are software and so there is always the risk of defects.  There are however mechanisms in place to reduce this risk, for example Ethereum is run using multiple versions of the software developed by different teams.

On the surface bitcoin and Ether are very similar assets currently with a high degree of price correlation.  There are however distinct differences that may, in the longer term, cause a divergence in their price.  Ethereum has the potential for a big increase in adoption across a wide variety of sectors whilst the narrative around bitcoin as a store of value and hedge against inflation is growing.   Diversification across both assets maybe the best strategy.

Up to 83 per cent of institutional investors and wealth managers believe the recent strong performance of the two leading cryptocurrencies will fuel demand for other digital assets, the study with investors in the US, UK, Germany, Switzerland, Singapore, Brazil and the United Arab Emirates who collectively manage around USD815 billion in assets found.

Nearly three out of four (72 per cent) are confident bitcoin will breach the USD100,000 barrier while 25 per cent are not convinced it will. Among those confident about bitcoin hitting USD100,000 around half (50 per cent) are convinced the landmark will be achieved within five years. 

The survey, completed in January 2024, asked institutional investors and wealth managers to predict prices for bitcoin and Ethereum by the end of 2024. Around 76 per cent predicted bitcoin would reach USD45,000 by the end of the year – it is currently already over USD51,000. That included just 21 per cent who predicted it would hit USD50,000 or more. Around 40 per cent predicted Ethereum would reach USD2,500 by the end of the year – it is currently over USD2,700.

Thus, the upper end of the 2024 full-year forecasts have already come true, the firm says.

The same applied to predictions about the global crypto market with 60 per cent of respondents forecasting the marketcap will reach USD1.4 trillion the end of the year. It has already exceeded this level and currently stands at just under USD2 trillion. 

Anatoly Crachilov, CEO and Founding Partner at Nickel Digital, says: “The confidence of institutional investors in market growth in 2024 is striking, but even this optimism got eclipsed by the actual growth in the first weeks of the year, propelled by the broad-base demand for BTC following the successful ETF launch.

“Furthermore, the broader digital asset market is likely to become the second-order beneficiary of bitcoin appreciation, as tokens with smart contract capabilities that cater for a diverse range of innovative use cases will attract closer attention. Given smaller market cap of these tokens, any marginal dollar invested in them, tend to have a more pronounced price impact, potentially resulting in these tokens significantly outperforming bitcoin and Ethereum over the investment cycle, according to our analysis.”

The firms write that the Utila platform provide a comprehensive and user-friendly approach to crypto asset management, with personalised wallet infrastructure that simplifies day-to-day crypto management for institutions. 

The new partnership with Coincover offers a new MPC (Multi-Party Computation) solution that aims to simplify institutional access to crypto.

Utila customers will have access to Coincover’s third-party recovery technology. With access to an added layer of protection, the firms writes that Utila customers can confidently utilise a self-serve key backup solution that removes the complexity and concerns surrounding potential lost access to funds. This partnership empowers Utila customers to take control of their digital assets while enjoying the peace of mind that comes with Coincover’s protection, the firms say.

The firms write that the onboarding process is seamless and Utila customers can easily select Coincover as their backup provider without the need for complex referral procedures. This streamlines the setup of crypto businesses and removes entry barriers, helping to stimulate institutional involvement in crypto.

Ridhima Durham, Chief Commercial Officer, Coincover, says “Our partnership with Utila is groundbreaking. Customers benefit from industry-leading blockchain protection technology whilst enjoying the extra perk of self-servicing key backup through Utila’s platform. It’s the perfect blend of top-tier recovery and an effortless user experience, making the journey smooth and seamless.”

Bentzi Rabi, Co-Founder and CEO, Utila, commented on the partnership, saying: “At Utila, we’re genuinely excited about our new partnership with Coincover. CoinCover’s unrivalled expertise in crypto asset security perfectly aligns with our commitment to easily safeguarding our users’ keys and digital assets. By enabling our customers to secure their key backup with Coincover for all of their keys created and managed via Utila, we’re poised to take our enterprise-grade wallet to even greater heights, ensuring our clients enjoy the highest level of protection and peace of mind in their crypto endeavours.”

The firms writes that this collaboration signifies a major step forward in providing a comprehensive solution for crypto asset management, combining recovery expertise with an advanced wallet infrastructure. Both Coincover and Utila anticipate that this partnership will contribute to greater trust, security, and ease of use in the evolving landscape of digital asset management.

In this proof-of-concept phase, Atlas is focusing on improving data collection methodology and platform development, the team writes.

“While plenty of data on the industry are currently available, the data are spread over many protocols, market actors and jurisdictions, and reporting is often not regulated or standardised.

“The project report details how the proof of concept uses transactions between crypto exchanges in the Bitcoin network, along with the location of those exchanges, as a proxy for cross-border capital flows. Attribution data links on-chain transactions to crypto exchanges, which are then mapped to their geographical location (where possible).

“The derived bilateral flows between countries are visualised on a globe that presents the data in a user-friendly and easily accessible manner. An initial analysis of preliminary data collected by the platform shows that cross-border flows are substantial economically and unevenly distributed across geographical regions.”

“Project Atlas is a great example of what the BIS Innovation Hub can achieve. Working in the intersection of economics, finance and computer engineering, we are developing a new and important public good for central banks globally,” says Cecilia Skingsley, Head of the BIS Innovation Hub. “The data on cross-border flows are relevant for areas like payments and macroeconomic analysis,” she adds.

Burkhard Balz, Member of the Executive Board of the Deutsche Bundesbank, says: “Atlas enables a variety of use cases. Researchers can structurally analyse the micro data while policymakers can access tailored dashboards for insights at a glance. I am excited about the potential and future developments of this project.”

The BIS Innovation Hub develops solutions that take the form of proofs of concepts, prototypes or minimum viable products. The first proof of concept of Atlas successfully showcases how to collect, clean and analyse data relevant to central banks’ mandates. Project Atlas hence provides a starting point for holistic analysis of existing data. For example, it can help identify inconsistencies across data sources, and provides data which can be used to analyse the macroeconomic relevance of crypto markets and potential financial stability implications.

 Olaf Sleijpen, Executive Board Member at De Nederlandsche Bank, adds: “Atlas leverages the diverse skills of an inter-disciplinary team including developers and economists. It is great to see what the team has accomplished. Project Atlas could be a valuable tool for the central banking community for years to come.”

Key findings from the survey include:

• The top reason cited globally in support of launching a CBDC was to accelerate payments and transfers (58 per cent).
• 48 per cent of global respondents and 55 per cent of UK respondents would use a CBDC in some capacity if it was offered.
• Globally, a majority (55 per cent) believe that CBDCs can coexist with private cryptocurrencies, with 61 per cent of UK respondents believing the same.
• 58 per cent of global respondents agree that private money will always be inferior in quality and security to government money.

The CFA Institute Global Survey on Central Bank Digital Currencies found that only 46 per cent in the UK (and 42 per cent globally) believed that central banks should launch CBDCs, with respondents citing several concerns about their application. Among UK respondents who opposed launching a CBDC, the top reason cited was a belief that their introduction does not currently address a compelling need (49 per cent) – something that UK policymakers themselves have raised – followed by the view that other innovations are already improving payment mechanisms without the need for a CBDC (35 per cent) and concern over data privacy risks (33 per cent). Just 15 per cent of UK respondents said they had a strong understanding of CBDCs.

The survey gathered responses from over 4,000 investment professionals globally to explore the possible implications for capital markets and investment practitioners if central banks develop and launch digital versions of physical currencies.

Though support for the creation of a CBDC in the UK stood at less than half (46 per cent), respondents were even more sceptical in other developed markets, such as the US (31 per cent) and Canada (38 per cent).  Those in emerging markets, such as China (70 per cent) and India (66 per cent), were much more likely to be in favour, possibly a result of the belief that CBDCs would significantly accelerate payments and create a cash-like form of payment.

Comparing these markets underlines the divergence in attitudes across regions – 61 per cent of respondents from emerging markets favour a CBDC versus 37 per cent of those in developed markets.

Olivier Fines, CFA, Head, EMEA Advocacy, CFA Institute comments: “Although the likes of Bank of England have requested stakeholders’ views through various consultations and focus groups, much remains unknown about the public’s understanding of, interest in, and demand for CBDCs.

“The results illustrate a general feeling of scepticism which continues to dominate perceptions, and central banks and governments will need to run a significant education program with consumers prior and during the launch of a digital currency. Acceptance by end-users will be critical for any CBDC, but this is far from guaranteed even in those markets which are more receptive to digital money, particularly if it fails to live up to its perceived benefits.”

Scepticism on CBDCs’ ability to improve financial stability and inclusion

Greater financial stability and inclusion are frequently cited as potential benefits of a CBDC; however, the report found a lack of consensus on whether a CBDC would enhance either.

Less than a third (32 per cent) of global respondents believe a CBDC would enhance financial stability and a similar proportion (34 per cent) felt one would likely improve financial inclusion of under-served economic sectors or populations.

Those in the UK are particularly doubtful that a CBDC would be able to deliver on these two aspects, despite the BoE highlighting these two benefits in their proposal for a digital pound. Fewer than 4 in 10 (38 per cent) believe that a CBDC would improve financial stability and even fewer (31 per cent) think a CBDC likely would improve financial inclusion.

The survey also revealed that those in emerging markets had a stronger belief in the stability benefits of CBDCs than those in developed markets (50 per cent vs 28 per cent) and a more positive view on their impact on financial inclusion (55 per cent vs 28 per cent).

While crypto companies are left in limbo after the US Securities and Exchange Commission (SEC) Chair’s statement on most digital assets being securities, the world of investment funds suffers in its own way. Until a clear international regulatory framework is in force, funds remain in the dark at what level it is legal to interact with crypto assets.

Why digital assets’ classification is pressing to investment funds?

Crypto assets, also known as cryptocurrencies, are digital tokens that use cryptography to secure transactions and control the creation of new units. The regulatory classification of crypto assets as commodities or securities has been debated for several years.

An unambiguous classification can significantly impact the alternative investment funds (AIFs) and the fund industry overall. If classified as commodities, crypto assets may be subject to less regulatory oversight, making investing easier for funds. On the other hand, if classified as securities, they may be subject to stricter regulations, making it more challenging for funds to invest but offering investors more protection and transparency along the process.

A tradable financial asset (i.e. security) is subject to registration with regulatory authorities, disclosure and investor protection requirements, price transparency, and greater reporting demands in general. These regulations can increase accompanying costs and complexity for alternative investment funds dealing with digital assets.

Digital assets classified as commodities may be subject to fewer regulations, providing less investor protection, but lead to a new spectrum of controversies for investment funds. Due to particular investment strategies and policies, most funds do not trade commodities and work exclusively with securities. In this case, the classification directly affects whether the fund can invest in digital assets. 

Thus, alleviated regulations can, in theory, make AIFs’ operations with digital assets easier, but only if those funds are initially engaged with commodities. Due to the high market risk associated with the economic nature and the increased volatility of crypto assets, even significant fund investments can result in a dramatic price deterioration. 

The current debate around digital assets’ classification: the U.S. example

Some experts argue that crypto assets should be considered commodities, like gold or oil, since they are not backed by any government and have no intrinsic value. Others argue digital assets should be classified as securities as they are often used as investment instruments, and their value is subject to market fluctuations. 

The Commodity Futures Trading Commission (CFTC) and SEC have taken a case-by-case approach to classifying crypto assets. Both regulators agree that Bitcoin is a commodity, and CFTC extends this classification to Ethereum. In 2020, SEC filed an ongoing lawsuit against blockchain developer Ripple Labs, arguing that XRP, Ripple’s native token, is a security. Additionally, a Kraken case made some crypto CEOs believe that SEC is going after crypto staking for U.S.-based customers. If so, numerous leading crypto companies may start looking into other markets to settle in.

Along with the rest of the world, several proactive regulatory steps were made by the EU regulatory bodies aiming to integrate crypto assets in European financial markets.

Regulatory standpoint in the EU and implications for AIFs

As crypto assets become more mainstream, European regulators are increasingly scrutinising these investments to ensure they adhere to traditional investment standards.

The Fifth Anti-Money Laundering Directive (5AMLD), introduced in 2018, includes regulations of crypto asset service providers (CASPs) such as exchanges and wallets. According to the directive, CASPs must follow basic requirements to prevent money laundering: register with their local regulatory authority, conduct due diligence on their customers, and report any suspicious activity.

Moreover, the European Securities and Markets Authority (ESMA) qualifies crypto assets as financial instruments. Therefore, alternative investment funds operating in Europe may, in fact, invest in any traditional or alternative assets as long as the AIFM can ensure compliance with the AIFM Directive. In this way, investing in crypto assets, from the AIFM’s point of view, does not differ much from managing other types of assets, with no additional licence needed. 

Luxembourg’s regulator, The Commission de Surveillance du Secteur Financier (CSSF), in turn, states that an AIF may invest directly and indirectly in digital assets under the condition that its units are marketed only to professional and not retail investors. Investments in derivatives and transferable securities with underlying virtual assets are also considered as indirect investments in virtual assets. Additionally, each Luxembourg-authorised AIF investing in virtual assets needs to obtain prior authorisation from the CSSF for the strategy “Other-Other Fund-Virtual assets.”

Despite the regulatory challenges, the EU remains an attractive market for crypto asset funds due to its large and diverse investor base, solid financial infrastructure, and supportive startup ecosystem. To do so, the AIFM needs to be granted permission from the regulatory body for particular management strategies to invest in companies at their early stages.

Final words

The classification of crypto assets is not quite evident to grasp, as there has yet to be a clear regulatory consensus. While regulators worldwide struggle to come to a unified conclusion, investment funds engaged in the crypto industry find their operations complicated by the lack of clarity. 

Investment experts can expect heated debates regarding crypto assets’ classification and management in the following year. From the perspective of AIFMs, there is hope that recommendations of investment industry participants will be noted during the discussion and adoption of new regulations in the EU and worldwide.